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The high investment-grade ratings of the United Arab Emirates (UAE) remain supported by the country's strong economic fundamentals and long history of domestic political stability, Moody's Investors Service says in its new credit report on the UAE. The foreign and local currency government bond issuer ratings for the federal government of the UAE are currently Aa2 (upgraded from Aa3 in July 2007).

These are the highest sovereign ratings in the region along with those of Kuwait and Qatar. "The UAE enjoys one of the highest levels of GDP per capita in the region, thanks largely to a high level of hydrocarbon exports per capita. The country has the fifth largest oil reserves in the world," says Tristan Cooper, a Moody's Vice-President / Senior Analyst and author of the report.

"In addition, the non-hydrocarbon economy is vibrant and growing rapidly, encouraged by the government's active promotion of the private sector and successful efforts to attract foreign investment. Meanwhile, sustained fiscal and current account surpluses have enabled the public and private sectors to accumulate large net foreign asset positions," Mr Cooper adds.

The domestic political situation remains stable and the UAE enjoys close relations with the US, other G8 countries and most regional neighbours, although relations with Iran are complicated by a long-running territorial disagreement.

A number of factors weigh on the UAE's ratings. These include the country's high dependence on hydrocarbon exports, which exposes the economy to swings in international oil prices. Mr Cooper also explains that: "Inflationary pressures have risen markedly in recent years - stimulated by capacity constraints, strong growth in public expenditure, and the peg to a falling dollar. This threatens to undermine the competitiveness of non-hydrocarbon sectors. Furthermore, the contingent liabilities of some emirate governments are rising rapidly, particularly in Dubai, as publicly owned companies seek financing for their ambitious expansion plans."

Moody's notes that the UAE's political, administrative and legal institutions tend to be weaker than those of higher rated countries and the poor quality, scope and timeliness of official data act as an impediment to economic analysis. Despite the stability on the domestic political front and the fact that the UAE has historically been relatively unaffected by regional geopolitical instability, there remains a risk that a deterioration in the neighbouring political environment could have an adverse impact. Nevertheless, this risk is slight, as reflected in the country's high Aa2 ratings.

The UAE's sovereign ratings have a stable outlook. "Although Moody's expects the government's finances to continue to improve over time given our projection of wide fiscal surpluses, the UAE's ratings are likely to be constrained by political, institutional and structural factors, which are given comparatively more weight in the Aa rating category," Mr Cooper concludes.

The issuance of this credit report by Moody's Investors Service is an annual update to the markets and is not a formal action to alter the credit rating of the issuer.